AN OPTION FOR THE REPAYMENT OF UNSECURED CONSUMER DEBT EDUCATIONAL SERIES JAN 2014
AN OPTION FOR THE REPAYMENT OF UNSECURED CONSUMER DEBT Educational Series Jan 2014 Published by: Debt Management Credit Counseling Corp. 3310 N. Federal Highway Lighthouse Point, FL 33064 (954) 418-1466 Copyright 2011-2014 Debt Management Credit Counseling Corp. All rights reserved. No part of this publication, including, but not limited to, the interior design, cover design, graphics, contents, study material and format may be reproduced, stored in a retrieval system, copied, photocopied, altered, recorded, or electronically transmitted in any form or by any means without the prior written consent of Debt Management Credit Counseling Corp. The subject matter contained in this educational publication is for informational purposes only. We suggest that you consult financial, legal or other expert advisors when planning for your specific needs or requirements.
Table of Contents 1. What is Credit Counseling... 1 2. Debt Management Plans... 2 a. Requirements... 2 b. Creditor Proposals... 2 c. Benefits... 3 i. Debt Consolidation... 3 ii. Lower Interest Rates and Payments... 4 iii. No More Collection Calls and Fees... 5 iv. Reaging of Accounts... 5 v. Collection Accounts and Other Debts... 6 3. Credit Counseling Agencies... 7 4. Who Should Consider a Debt Management Plan... 8 5. What Consumers Should Know About DMPs... 9
WHAT IS CREDIT COUNSELING 1. What is Credit Counseling Credit counseling is a service that provides education and budgeting assistance to consumers to help them manage their personal finances and, if needed, a means of debt relief known as a debt management plan (commonly referred to as a DMP ) to repay their unsecured credit card debt. The goal of credit counseling is to provide consumers with the tools they need to repay their debt in full and avoid more drastic solutions such as debt settlement or filing bankruptcy. This goal, i.e. the intent to repay the debt in full, is the fundamental difference between credit counseling and either debt settlement or filing bankruptcy, which do not provide for the full repayment of a consumer s debt. Ideally, a consumer that is struggling to repay their credit card accounts each month will receive information and assistance through credit counseling that will enable them to balance their budget and make the minimum monthly payments required by their creditors. In many cases, however, consumers are unable to balance their budget without lower credit card payments, which a debt management plan can provide. 1 P age
DEBT MANAGEMENT PLANS 2. Debt Management Plans a. Requirements Debt management plans are provided by creditors to consumers who obtain credit counseling and need assistance in repaying their credit cards as a result of an unforeseen hardship. Each of the major credit card companies has their own specific criteria for an account holder to be eligible for their debt management plan benefits, but for the most part, they all share the following in common: Consumer must have a financial hardship preventing them from paying contracted minimum payments on account. Consumer must receive budget counseling from an accredited credit counseling agency and be able to afford debt management plan payment. Debt management plan payment must provide for payoff of account balance in 5 years or less. All accounts enrolled in the debt management plan are closed and consumer must refrain from incurring any new credit card debt. b. Creditor Proposals Credit counseling agencies offering debt management plans to consumers are responsible for designing plans and sending proposals to the consumer s creditors for benefits in accordance with each creditor s criteria. Many creditors require that a balanced budget for the consumer be submitted with the proposals reflecting the consumer s ability to make the monthly debt management plan payment. Assuming the proposals are 2 P age
DEBT MANAGEMENT PLANS compliant with the creditor s criteria, they are accepted and the debt management plan benefits are extended by the creditor to the consumer. If a proposal received by a creditor is deficient in any manner, the creditor will notify the credit counseling agency to correct the deficiency, if possible, and resubmit another proposal. c. Benefits Debt management plans are designed to be beneficial to both consumers and creditors. The consumer is provided a repayment plan that they can afford and the creditor receives repayment of the principal amount of the debt plus, in most cases, a fair interest rate. Specific benefits to consumers vary among credit card companies, but generally include: Consolidation of individual monthly payments to creditors into one monthly payment to credit counseling agency. Reduced interest rates. Lower monthly payments. Stopping of creditor collection efforts, including telephone calls. Elimination of past due fees and over-limit fees. Reporting of accounts to major credit bureaus as current. i. Debt Consolidation The most common benefit of a debt management plan is the consolidation of multiple monthly payments to a consumer s individual creditors into one lower monthly payment to the credit counseling agency. Many people refer to credit counseling and 3 P age
DEBT MANAGEMENT PLANS debt management plans as debt consolidation for this reason. The credit counseling agency will hold the consolidated payment in a federally insured trust account until the funds clear and then disburse individual payments to the consumer s creditors as required. As each account enrolled in the debt management plan is paid in full, the payment for that account is redirected to another enrolled account until all accounts are paid in full. Consequently, the consolidated debt management plan payment generally remains constant throughout the plan term. ii. Lower Interest Rates and Payments The consolidated debt management plan payment, including the credit counseling agency service fee, is usually less than the sum of the individual payments previously being paid by the consumer as a result of interest rate reductions granted by the creditors. Interest rate reductions offered by creditors vary based on each creditor s policies and the particular account history the consumer has with the creditor. The length of time a credit card account has been open, the balance and nature of transactions on the account, the consumer s payment history on the account, and the financial hardship reported by the consumer may all factor into the reduced interest rate a creditor is willing to extend under a debt management plan. Annual interest rates on debt management plan accounts generally average between 5% and 10%. Consumers entering a debt management plan who are, or have been, past due in the payment of their credit card accounts are often being charged default interest rates of 29% or higher, so the interest rate reduction can be a significant benefit. Creditors generally require that all accounts enrolled in a debt management plan be paid in full within 5 years. Consequently, the monthly debt management plan payments must be set high enough to pay all the enrolled account balances plus the interest 4 P age
DEBT MANAGEMENT PLANS within such period of time. For this reason, monthly debt management plan payments, including credit counseling agency fees, typically average 2.5% or more of the total enrolled account balances at the inception of the plan. See adjacent table for estimated DMP payments on specified total debt amounts. Total Debt DMP Payment $10,000 $250 $20,000 $500 $30,000 $750 $40,000 $1,000 $50,000 $1,250 iii. No More Collection Calls and Fees The most important benefit for many consumers who enroll past due credit card accounts in a debt management plan is that the creditors stop their efforts to collect the debt, including telephone calls, threatening letters and lawsuits. Credit counseling agencies managing debt management plans for consumers are expected to help consumers manage their budgets so the monthly DMP payments are not missed. Accordingly, collection efforts should not be needed. Creditors also stop assessing past due and over limit fees on delinquent accounts enrolled in a debt management plan. Of course, if a consumer fails to make their monthly debt management plan payments, the creditor collection efforts and fees will resume. iv. Reaging of Accounts Another benefit of debt management plans extended by many creditors is the process of bringing delinquent accounts current. This is often called "reaging" an account. This usually occurs after the first two or three payments through the debt management program are made on time. For example, a consumer with an account which has not been paid in two months might be reported by their creditor to the major credit bureaus as 60 days past due. After receiving three consecutive monthly payments through a debt management plan, the creditor may re-age the 5 P age
DEBT MANAGEMENT PLANS account to reflect a current status. This process does not eliminate the prior delinquencies on the credit bureau reports. It merely gives a fresh start and an opportunity for the consumer to begin building a positive credit history. It is important to note that accounts being paid through a debt management plan may be denoted on a consumer s credit reports as being enrolled in credit counseling. Although not a factor in the computation of consumer FICA scores, a creditor may consider such fact positively or negatively when making a lending decision regarding consumer. v. Collection Accounts and Other Debts In order to assist consumers with the consolidation of their debt payments into one monthly payment, many credit counseling agencies will also allow unsecured debts other than credit cards to be included in a consumer s debt management plan, such as collection accounts, medical bills and personal loans. However, the debt management plan benefits available for these types of accounts are usually limited. For example, if a credit card account has already been charged off by the original creditor and sold to a collection agency, interest on the account is no longer accruing so the benefit of a reduced interest rate is not available. Many collection agencies will, however, accept payments from a credit counseling agency and stop their attempts to collect the debt directly from the consumer. 6 P age
CREDIT COUNSELING AGENCIES 3. Credit Counseling Agencies Debt management plans are only offered by creditors through accredited credit counseling agencies that are licensed or otherwise authorized to provide such services in the state in which consumer resides. Credit counseling agencies may be organized as for-profit or non-profit entities. Regardless of their for-profit or non-profit status, fees charged by credit counseling agencies for debt management plan services are regulated by the creditors and most states. Some non-profit credit counseling agencies are also recognized as tax exempt charities under IRS Code Section 501(c)(3). These charitable organizations provide consumers ongoing education and counseling as part of their mission, and may receive voluntary contributions from some creditors to help them fund their programs. 7 P age
WHO SHOULD CONSIDER A DEBT MANAGEMENT PLAN 4. Who Should Consider a Debt Management Plan? Consumers should consider a debt management plan if: They have a financial hardship that prevents them from paying the minimum monthly credit card payments required by their creditors. They have a source of income that allows them to make monthly DMP payments equal to approximately 2.5% of the total plan debt at the time of enrollment. Their credit card accounts are still held by the original creditors who issued the cards and have not been charged-off or sold to a collection agency. Consumers should NOT consider a debt management plan if: They are considering the purchase of a home and will need a mortgage loan, or expect to refinance an existing mortgage loan, within the next 12 months. They require the continued availability and use of credit cards. They cannot afford the monthly DMP payment 8 P age
WHAT CONSUMERS SHOULD KNOW ABOUT DMPs 5. What Consumers Should Know About DMPs All credit card accounts enrolled in a DMP will be closed and consumer may not open new credit card accounts or unsecured lines of credit during the plan term. Although participation in a DMP is not a factor in determining consumer FICO scores, it will be reported by creditors to the major credit bureaus and may affect a lender s decision to extend credit. If a consumer misses monthly DMP payments, the creditors may drop them from plan, increase interest rates and payments, and resume their collection efforts and fees. Consumers may payoff the enrolled accounts at anytime and terminate the DMP with no penalty. 9 P age